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Kirkpatrick & LockhartNicholson Graham LLP

INSURANCE COVERAGE FOR LOSS ANDCLAIMS ON CONSTRUCTION PROJECT S

By :

Joseph L. Luciana, IIIRonald J. Chleboski, Jr.James S . Malloy

1 .

INTRODUCTION

Obtaining insurance to protect against unexpected developments or disputes can be aneffective tool for contractors and construction managers to mitigate or reduce thefinancial consequences of such events on a construction project . The wide array ofinsurance policies and potential terms available to contractors and constructionmanagers for a construction project can ensure financial support and stability whenunforeseen events arise and the contractor or construction manager is faced with aresulting liability that was not contemplated at the beginning of the project . Insuranceis, therefore, a fundamental requirement (one which is often overlooked) to protectcontractors and construction managers during and after a construction project .

This article will examine four different real-life factual circumstances in whichcontractors were able to obtain insurance coverage for loss or claims arising during aconstruction project: (1) recovering consequential damages for mitigation of delayunder an ocean marine cargo policy when power plant equipment was destroyed at seaduring shipment; (2) obtaining coverage under builders risk and general liabilitypolicies for property damage claimed by an owner and resulting from alleged defectivework; (3) obtaining coverage under a professional liability policy for errors andomissions claimed by an owner against a design-build contractor ; and (4) obtainingcoverage under general and professional liability policies for claims of defective work . .

While the potential range of scenarios for which insurance coverage might be availableare numerous, the examples discussed herein demonstrate the broad scope of insurancecoverage that is available to protect contractors and construction managers onconstruction. projects .

COVERAGE FOR CONSEQUENTIAL DAMAGES (MITIGATION OFDELAY) UNDER AN OCEAN MARINE CARGO POLICY

In Assicurazioni Generali S.P.A. v. Black & Veatch Corp ., 362 F.3d 1108 (8th Cir.2004), the United States Court of Appeals for the Eighth Circuit (the "Eighth Circuit")addressed the obligations of a syndicate of Underwriters at Lloyd' s of London("London Underwriters") under an ocean marine cargo policy to provide coverage to acontractor (and owner) for efforts to mitigate delay-in-start -up arising from power plantequipment that was destroyed while in ocean transit . Assicurazioni demonstrates thatLondon market insurers will aggressively pursue claims against their policyholders toavoid coverage on a construction project . However, if the insured carefully reviews itspolicy and is steadfast in holding the insurer to the terms of that policy, the insured canprevail .

In Assicurazioni, a contractor entered into an agreement in September 1999 with anowner and agreed to engineer, procure equipment for, and construct (the "EPCContract") a combined cycle power plant in Missouri (the "Project"). In tu rn , the

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contractor subcontracted the manufacture and supply of certain power plant equipmentto overseas suppliers . The heat recovery steam generators ("HRSGs") were among thelargest and most expensive items of equipment on the Project and were to bemanufactured in Japan and delivered to the Project by ocean vessel . As such, theProject required ocean marine insurance .

London Underwriters had issued to the contractor an ocean marine cargo facility (the"Ocean Marine Facility") that was effective in December 1999 and made availableinsurance coverage in two parts - (1) Section I coverage for physical loss or damagefor the transport of equipment, machine ry , supplies and materials ; and (2) Section IIcoverage for consequential loss for delay - in-start-up. The contractor could obtaincoverage under Section I of the Ocean Marine Facility merely by declaring a shipment(even if the declaration occurred after the shipment left port and was in transit) andpaying the premium designated in the Ocean Marine Facility . However, the contractorcould only obtain consequential loss coverage for delay-in-sta rt-up by obtaining anendorsement from the London Underwriters endorsing the pa rt icular constructionproject to the Ocean Marine Facility . The terms of the Ocean Marine Facility were setforth in a cover note issued by a London broker to the contractor (the "Cover Note") .

The Ocean Marine Facility contained a survey warranty provision that gave the LondonUnderwriters the right to manage the Section II risk by requiring a pre-shipment surveyof "critical items." The Ocean Marine Policy specifically stated that the surveywarranty applied "in respect of the items listed below" and had a section which stated"List of Items : (If necessary to be listed on a separate schedule) ." On at least one prioroccasion when the contractor endorsed a particular project to a predecessor oceanmarine cargo facility, the endorsement adding the project specifically identified theparticular shipments of "critical items" for that project .

Originally, the owner planned to provide the ocean marine cargo insurance for theProject . However, in March 2000, the owner directed the contractor to supply theocean marine insurance policy . After receiving that instruction, the contractor asked itslocal broker (and counterpart London broker) to endorse the Project to the OceanMarine Policy so the contractor and the owner would both be covered for physical lossand consequential loss for delay-in-start-up . The London Broker then approached theLondon Underwriters in the "box" of the lead underwriter and requested that . theLondon Underwriters endorse the Project for Section II coverage under the OceanMarine Facility .

By Endorsement dated April 20, 2000 (the "Project Endorsement"), the LondonUnderwriters agreed to endorse the Project to the Ocean Marine Facility providingSection I and Section II coverage effective as of April 18, 2000 . However, thatendorsement subsequently became hotly contested . In the period leading up to theProject Endorsement, the local broker and the London broker repeatedly requested (ine-mails) information from the contractor about "critical items" on the Project . And, inreturn a-mails to the local broker and the London broker, the contractor repeatedlyprovided lists of "critical items" that included the HRSGs . Although the Londonbroker provided some of those "critical items" lists to the London Underwriters and theLondon Underwriters "scratched" some of those "critical items" lists, none of thoselists were actually attached to the Project Endorsement . Instead, the ProjectEndorsement contained an attachment titled "Rating Indication Sheet ." The "Rating

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Indication Sheet" consisted of a series of questions by the London Underwriters and theresponses by the contractor .

With respect to the HRSGs, the "Rating Indication Sheet" attached to the ProjectEndorsement stated in pertinent part :

[London Underwriter's Question ]

4 .

Supervision surveys required on critical items at bothloading/discharge - details to be agreed once shipping scheduleconfirmed - costs for [contractor's] account .

[Contractor 's response : ]

We can arrange for these if required . Currently they are not required perour subcontracts . Only two contracts are shipping overseas : [Supplier]from Japan HRSG and STG, BFP's and possibly motors from Europe .

The London broker prepared a Slip Policy (the "Slip Policy") that, although notidentical to the Cover Note, contained the essential terms set forth in the Cover Noteand the various endorsements that had been "scratched" by the London Underwriters,including the Project Endorsement . However, unlike the Cover Note, the Londonbroker did not provide a copy of the Slip Policy to the contractor . As such, based onthe e-mail correspondence with the local broker and the London broker, the contractorbelieved the HRSGs were "critical items" requiring a pre-shipment survey . And, thecontractor attempted (without success) to require the supplier of the HRSGs to obtainsuch surveys in July 2000 for shipments of certain components of the HRSGs . On July21, 2000, the vessel transporting those components encountered a severe tropical stormin the Pacific Ocean . The vessel lost power and was subject to extreme rolling in thestorm swells . The storm destroyed the components of the HRSGs on board the vessel .

The supplier of the HRSGs agreed to re-manufacture the damaged components at nocost to the contractor . However, the supplier informed the contractor that there wouldbe a six month delay in re-manufacturing and delivering those components to theProject . The contractor in turn informed the owner that there would be a six monthdelay to the Project and made a force majeure claim . The owner denied the forcemajeure claim and instructed the contractor to take whatever steps were necessary tocomplete the Project by the completion date in the EPC Contract . The contractor thendeveloped a plan to mitigate the delay by changing the construction sequencing andemploying additional labor and supervision . In fact, the contractor completed theProject without a delay in start up, but the owner and contractor together incurredsubstantial cost in doing so .

The contractor and the owner, as named insureds, both made claims under Section II ofthe Slip Policy for the substantial mitigation costs incurred in avoiding the delay-in-start-up. The London Underwriters denied those claims asserting that the HRSGs were"critical items" requiring a pre-shipment survey under the terms of the policy . In fact,the London Underwriters filed a lawsuit in Missouri against the contractor and theowner seeking a declaration that the Slip Policy did not provide delay-in-start-upcoverage for the damage to the HRSGs because the contractor did not obtain a pre-

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shipment survey . In response, the owner and the contractor counterclaimed seeking adeclaration of coverage and damages for breach of the Slip Policy .

The dispute essentially centered on the issue of who was responsible for . designating"critical items" under the Slip Policy . The London Underwriters argued that (1) theywere not power plant constructors and had no ability to identify the "critical items ofequipment on a power plant construction project, (2) the repeated e-mails from thecontractor to the London broker identifying the HRSGs as "critical items" (which theLondon Underwriters "scratched") established that the HRSGs were "critical items"requiring a pre-shipment survey, and (3) the Project Endorsement containing theLondon Underwriters' question regarding "critical items" and the contractors responsereferring to HRSGs confirmed that both the contractor and the London Underwritersunderstood that the HRSGs were "critical items ." In response, the contractor (and theowner) argued that (1) the London Underwriters were solely responsible for acceptingrisks under the Slip Policy, (2) the London Underwriters were obligated to clearlyidentify the particular "critical items" in the Slip Policy, and (3) the Slip Policy wasunambiguous and did not identify the HRSGs as "critical items" because there was nolist of "critical items" and the question and answers in the Project Endorsements didnot expressly state that the HRSGs were "critical items."

The Eighth Circuit rejected the London Underwriters' arguments . Instead, the EighthCircuit held that the Slip Policy was unambiguous and did not identify the HRSGs as"critical items ." The Eighth Circuit further held that, where the language of aninsurance policy is clear and unambiguous, that language controls and, if a differentresult were sought, then the insurer should have affected such a result by amending,altering or drafting different language in its policy. In the absence of such differentlanguage, the insurance policy should be enforced according to its unambiguous terms .In so holding, the Eighth Circuit noted the importance of the long-standing rules ofinterpretation of insurance policies, admonishing the professed resentment by whichLondon Underwriters attacked the positions of the contractor and the owner, stating :

The Underwriters express great frustration that [the contractor andowner] must have known that the [HRSGs] were "critical items," giventhe value and importance of the [HRSGs] to [the Project], and thecontemporaneous statements and actions of certain employees of [thecontractor and owner] . They characterize [the contractor's andowner's] contractual arguments as the afterthoughts of clever lawyersseeking to avoid what everyone knew or assumed about the status ,of thedamaged cargo . The enforcement of contracts according to theirunambiguous terms, however, serves an important purpose in the law .When the parties establish a clear mechanism for determining rights andobligations, lawyers and judges should not thereafter search through andinterpret copious e-mail exchanges and deposition transcripts in aneffort to discern whether the parties might really have intended thatwhich they failed to articulate in the written agreement . Where anagreement is clear, the parties are entitled to rely on an expectation thatit will be enforced as written . In this case, we cannot gainsay thepossibility that if the Underwriters had caused the [HRSGs] to bedesignated as critical items in an endorsement before the shipmentoccurred, then perhaps the [contractor] would have taken special note ofthat formal designation and been influenced to ensure that a survey wasundertaken . We need not speculate about such things, because the rule s

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were spelled out clearly in the policy, and for whatever reason, theUnderwriters did not take steps to ensure that a list of critical items wasincluded in the policy before they assumed the risk of insurance .

The London Underwriters also argued that a post-lost endorsement that had beenprepared by the London broker and that purported to confirm that the HRSGs were"critical items" was sufficient to demonstrate that the HRSGs were "critical items"under the Slip Policy . The London Underwriters argued that the London broker wasacting on behalf of the contractor (even though the contractor had no knowledge of thepost-lost endorsement and did not authorize its preparation) . The Eighth Circuitrejected this argument and held that, as a matter of law, a post-loss endorsement isinsufficient to create a list of items that had not been created as of the date of the lossand stated that the post-loss endorsement was not supported by consideration because itwould purport to eliminate coverage for claims worth millions of dollars without thepayment of any consideration to the policyholders .

This contractor's experience in Assicurazioni illustrates the point that LondonUnderwriters are not shy about bringing lawsuits against their constructionpolicyholders to avoid coverage where a large loss on a construction project is at stake .The decision in Assicurazioni is also significant because it demonstrates that an insuredwho carefully reviews the coverage and requires the insurer to live up to the expressterms of the policy can (and should) prevail . In fact, the decision in Assicurazioniestablishes that an insurer cannot change the unambiguous terms of an insurance policyby using : (1) extrinsic evidence that purports to demonstrate an intent differing fromthat found in the plain language of the policy; or (2) a post-loss endorsement not

supported by consideration . In essence, policyholders are provided additionalassurance that pre-policy and post-policy communications, as well as post-losscommunications, with either their insurer or the London broker will not be permitted toalter the clear language in an insurance policy or dictate a different allocation of risk .

M. COVERAGE UNDER BUILDERS RISK AND GENERAL LIABILITYPOLICIES FOR DAMAGE CAUSED BY ALLEGED DEFECTIVE WORK

The case of Kvaerner Metals Division v. Commercial Union Insurance Co ., 825 A.2d641 (Pa. Super. Ct . 2003), appeal granted, 848 A.2d 925 (Pa . 2004), involved claimsfor insurance coverage for property damage caused by alleged defective work underbuilders risk and general liability policies . In Kvaerner, the contractors' claim againstthe builders risk insurer was resolved by settlement while the contractors' claim againstthe general liability carrier is currently pending before the Pennsylvania SupremeCourt. However, the underlying facts in Kvaerner demonstrate that coverage can beobtained for damage caused by defective work and that coverage under differentpolicies on a construction project can overlap .

The dispute in Kvaerner arose from the construction of a coke oven battery in Indiana(the "Battery") under an engineering, procurement and construction contract (the"Contract") . The Battery was essentially a large brick structure containing multipleslotted ovens for making coke at high temperatures . After the contractor completed theconstruction of the Battery and all of the associated brick work, the contractor and itssubcontractor put the Battery through a heat up process . The heat up process wasintended to take the Battery from atmospheric temperature to the temperature used incoke making (around 2000 degrees Fahrenheit) . After the heat up process was

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completed, the contractor turned the Battery over to the owner for commercial use forcoke making .

The brick work in the Battery was expected to expand as the temperature increasedduring the heat up process, particularly for the high temperatures used in coke making .As a result, the contractor left expansion joints in the brick roof of the Battery to allowfor expansion of the roof bricks during the heat up process . Those expansion jointswere then to be filled and sealed with grout at a point in the heat up process when theexpansion was essentially completed . Kvaerner's subcontractor (who was also thedesigner of the Battery) was responsible for field supervision of the heat up process,including determining the timing of the grout sealing .

After the heat up process was completed and the contractor turned the Battery over tothe owner for commercial operation, the owner discovered damage to the Battery andmade a claim against the contractor (and the subcontractor) . In particular, the ownerclaimed that the brick work in the roof of the Battery had extensive cracks, the brickwalls between the ovens were tilted and bulged and metal tie rods used to hold thebricks in place were bent and bowed . The owner, contractor and subcontractor formeda task force to investigate the alleged damage and concluded that there was somedamage (although the scope of that damage was contested) . The task force alsodetermined that the damage was caused by two potential causes : (1) premature groutsealing of the expansion joints during the heat up process ; and/or (2) a torrentialrainstorm that may have washed grout into the expansion joints during the heat upprocess . The contractor's subcontractor was responsible for approving the timing ofthe grout sealing and approved the timing only after determining that it would notdamage the Battery .

Despite the alleged damage, the Battery continued to produce coke at levels meeting orexceeding the performance criteria of the Contract . Nevertheless, the owner claimedthat the damage would shorten the life of the Battery and demanded that the contractorrepair the damage . The contractor and subcontractor asserted that the alleged damagewas mostly cosmetic and would not affect the life of the Battery . In fact, at least one ofthe owner's representatives had referred to the damage as a "scratch on a Cadillac ."When the claim could not be resolved, the owner filed a lawsuit in Pennsylvania andasserted a claim in excess of $70 million against the contractor and the subcontractor .

A London-based insurer issued two builders risk policies to the contractor - a Builders

Risk Policy in the United States (the "US Builders Risk Policy") and a Contractors AllRisk Policy in London (the "CAR Policy") . The US Builders Risk Policy providedcoverage for "physical loss or damage . . . arising from any cause whatsoever unlessspecifically excluded hereafter whilst on or about the Project Site . . ." The CARPolicy provided difference-in-conditions coverage to the US Builders Risk Policy for"physical loss or damage occurring during the Period of Insurance to any of the InsuredProperty arising from any cause whatsoever whilst on or about The Site or the Project .. ." The US Builders Risk Policy had a policy period that ended on a particular date butcovered the anticipated time for construction of the Battery . The CAR Policy had apolicy period that covered the "whole period of the Project" plus a 12 month guaranteemaintenance period .

Both the US Builders Risk Policy and the CAR Policy were all risk policies providingcoverage for essentially every fortuitous (accidental) event unless specifically exclude d

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by the terms of the policies . In fact, all risk insurance is a special type of coverage thatextends to risks not usually contemplated . See Jane Massey Draper, Annotations,Coverage Under All-Risk Insurance, 30 A.L.R. 5th 170 (1995) . Despite the breadth ofthose policies, the builders risk insurer denied coverage for the alleged propertydamage to the Battery primarily asse rt ing that coverage was barred by the followingexclusions for faulty workmanship and design :

US BUILDERS RISK POLICY :

We will not pay for "loss" caused by or resulting from any of the

following. But if "loss" by a Covered Cause of "Loss" results, we willpay for that resulting "loss" .

d . Faulty, inadequate or defective :

(2) Error, omission or deficiency in design, specification,workmanship or materials as respects the cost of making goodsuch error, omission or deficiency ; however, resulting "loss" tothe insured property is covered .

CAR POLICY :

The Insurers shall not be liable under this Section for :

a) the costs necessary to replace, repair or rectify any of the PropertyInsured which is in a defective condition due to a defect in design,plan, specification, or workmanship, but this Exception shall notapply to the remainder of the Property Insured under this sectionwhich is free from defective condition but is lost or damaged as aresult of such defect .

In essence, the US Builders Risk Policy and the CAR Policy only excluded fromcoverage the particular costs for repairing a defect . If, however, a defect inworkmanship or design caused damage to other non-defective property, coverage forsuch damage was not excluded . As a result, the exclusions demonstrated that defectivework that caused damage beyond the defect itself was a risk that was intended to becovered under both the US Builders Risk and CAR Policies . For example, if acontractor installed a defective steel support beam during construction of a building, abuilders risk insurer would not likely be obligated to replace that defective beam underan all-risk policy because that would essentially constitute the cost of making gooddefective work . On the other hand, if the defective steel beam collapsed and caused therest of the building to collapse, the resulting damage to the building would not beexcluded and the insurer would essentially be covering the damage arising from therisk of defective work .

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Based on the terms of the US Builders Risk Policy and the CAR Policy, the contractorasserted that the alleged property damage to the Battery was covered . The contractorargued that the brick roof, brick oven walls and tie rods of the Battery had beenproperly constructed but became damaged as a result of the alleged prematuregrouting . The contractor also argued that, to the extent the damage was caused by thealleged torrential rains, there was coverage because rain was not an excluded risk .Based on the strength of these arguments, the builders risk insurer agreed to contributea substantial sum to settlement of the owner's claim against the contractor for thedamage to the Battery .

The contractor also had a general liability insurance policy that provided coverage foramounts the contractor was legally liable to pay for "property damage" caused by an"occurrence ." The general liability policy essentially defined "property damage" tomean physical injury to tangible property and "occurrence" to mean an accident (butaccident was not further defined in the policy) . The general liability policy alsocontained products-completed operations coverage ("Products-Completed OperationsCoverage"), which was defined as :

11 .(a) "Products-completed operations hazard" includes all "bodilyinjury" and "property damage" occurring away from premisesyou own or rent and arising out of "your product" or "yourwork" except

(1) products that are still in your physical possession: or

(2) Work that has not yet been completed or abandoned .

(b) "Your work" will be deemed completed at the earliest of thefollowing times :

(1) When all of the work called for in your contract has beencompleted .

(2) When all of the work to be done at the site has beencompleted if your contract calls for work at more than onesite .

(3) When that part of the work done at a job site had been putto its intended use by any person or organization otherthan another contractor or subcontractor working on thesame project .

Work that may need service, maintenance, correction, repair orreplacement but which is otherwise complete will be treated ascomplete .

The Products Completed Operations Coverage was broad enough to provide coveragefor any property damage arising out of a contractor's completed work, includingproperty damage to the contractor's own work. Significantly, because of the waycompletion of work was defined, the Products Completed Operations Coverage coul d

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provide overlapping coverage with the builders risk coverage . For example, if thecontractor had turned the work over to the owner for its intended use but the contractorwas not yet at the final completion stage of the contract, the Products CompletedOperations Coverage and the builders risk insurance would both provide coverage .

In Kvaerner, the owner had put the Battery to commercial (i .e . intended) use as soon asthe heat up process was completed . And, the physical damage to the Battery did notmanifest itself until after the Battery had been put to commercial use . As a result, theowner's claim for physical damage occurring after completion of the work fell withinthe definition of the Products Completed Operations Coverage . For that reasons, thecontractor requested coverage from the general liability insurer for the owner's claim .The owner had sued the contractor in a breach of contract action . On that basis, thegeneral liability insurer denied the claim asserting that the owner's breach of contractallegations against the contractor did not constitute an occurrence (i .e . an accident)under the general liability policy .

Prior to 1986, business risk exclusions in the standard-form general liability policies inthe United States excluded coverage for all property damage to construction workperformed by, or on behalf of, an insured contractor . Despite that, contractors andothers in the construction industry could add by endorsement Broad Form Property

Damage (`BFPD") coverage to the general liability policy by payment of an additionalpremium. The BFPD endorsement was intended to add back coverage for propertydamage to an insured contractor's completed construction work if the property damagewas caused by the defective work of a subcontractor . In 1986, BFPD coverage wasadded to standard form general liability policies (with an increase in premium) bymodifying exclusion I of the business risk exclusions ("Exclusion L") . The modifiedExclusion L stated that the policy did not apply to "Property damage" to "your work"arising out of it, or any part of it and included in the products-completed operationshazard." However, the modified Exclusion L included an exception that stated that"This exclusion does not apply if the damaged work or the work out of which thedamage arises was performed on your behalf by a subcontractor. " (Emphasis added) .

The general liability policy at issue in Kvaerner contained a further modified ExclusionL that was even broader. That Exclusion L stated :

This insurance does not apply to :

1 . "Property Damage" to that particular part of "your work" that isdefective or actively malfunctions .

This exclusion applies only to the "products-completed operations"hazard. It does not apply if the damaged work or the work out ofwhich the damage arises was performed on your behalf by asubcontractor .

Based on Exclusion L, the contractor in Kvaerner argued that the insuring agreement ofthe policy was intended to provide coverage for property damage to the contractor'sown completed work caused by an unexpected and unintended event . Otherwise therewould be no need to exclude coverage for such property damage and then restore itwith the exception to the exclusion . More importantly, the contractor argued that theexception to this exclusion demonstrated that the insuring agreement of the policy wa s

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intended to provide coverage for property damage to the contractor's completed workcaused by defective work when the defective work was performed by a subcontractor .Further, the contractor argued that the limitation in the exclusion to "that particularpart" of a contractor's work "that is defective" demonstrated that the contractor'sdefective work that damaged non-defective work was also intended to be coveredunder the insuring agreement of the policy .

Most importantly, the contractor argued that categorically excluding all coverage forbreach of contract claims for property damage to completed construction work wouldessentially eliminate the coverage intended under this provision for a constructioncontractor who performs all of its work under a contract . In particular, because theBFPD coverage always arises in the context of a claim by an owner of a completedconstruction project against the contractor with whom the owner had a contract, suchclaim can usually only be made in a breach of contract action. In fact, economic lossrules in many jurisdictions preclude an owner from asserting a claim in tort against acontractor where the alleged damage is confined to the completed construction work .Accordingly, the contractor argued that, if the trial court accepted the insurer'sargument of no occurrence for a breach of contract action, the court would eliminatecoverage for which the insured had paid a premium .

The trial court rejected the contractor's arguments and agreed with the insurer that abreach of contract claim can never constitute an occurrence under a general liabilitypolicy. However, on appeal, the Pennsylvania Superior Court reversed the trial court,holding that property damage to completed construction work caused by defectiveworkmanship can be a covered "occurrence" under a general liability policy eventhough the underlying claim was asserted in breach of contract . The dispute is nowbefore the Pennsylvania Supreme Court for final decision .

Many other courts in the United States have already recognized that an owner's claimagainst a contractor alleging property damage to completed construction work caused

by defective work is the type of claim that was intended to be covered under a generalliability policy . For example, the Supreme Court of Wisconsin recently rejected thecontract/tort rule in the context of BFPD coverage for underlying claims of breach ofcontract alleging property damage to an insured contractor's completed work arisingout of a subcontractor's defective work :

Despite this broad generalization [against coverage for breach of contractclaims], however, there is nothing in the basic coverage language of thecurrent [general liability] policy to support any definitive tort/contractline of demarcation for purposes of determining whether a loss iscovered by the [general liability policy's] initial grant of coverage ."Occurrence" is not defined by reference to the legal category of theclaim. The tenn "tort" does not appear in the [general liability] policy .

If, as [the insurer] contends, losses actionable in contract are never[general liability] "occurrences" for purposes of the initial coveragegrant, then the business risk exclusions are entirely unnecessary . . . .Why would the insurance industry exclude damage to the insured's ownwork or product if the damage could never be considered to have arisenfrom a covered "occurrence" in the first place?

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Am. Family Mut . Ins. Co. v. Am. Girl Inc . , 673 N.W.2d 65, 77, 78 . Numerousholdings from other states in the United States are in accord . '

And, the issue has applicability in London- based policies as well . For example, aninsurance policy issued out of London contained the following provision in the publicliability coverage that is essentially identical to Exclusion L (and likely broader thanExclusion L) :

This Section excludes all liability

For loss or damage to permanent or temporary works executed directlyby the Insured which should be insured and/or recoverable under theInsured's Contractors and Erection Works Insurance policies .Furthermore this Section shall not apply in the event that the Insured failsto effect such policies where they have responsibility for insurance norwhere such policies effected by or on behalf of the Insured fail to providean indemnity to the Insured due to a restrictive endorsement or breach ofpolicy condition or non-disclosure or misrepresentation or like clause orinadequacy of the policy limit of indemnity .

This Exception shall not apply to loss or damage to the permanentworks or any part thereof occurring after the date of delivery of theworks or the date of issue under the terms of the contract of acertificate of completion (whichever occurs first). (Emphasis added) .

Essentially, contractors and construction managers should consider their generalliability policies when an owner asse rts a claim for damage caused by defective work .Those policies may provide coverage .

IV. COVERAGE FOR ABANDONMENT OF A CONSTRUCTION PROJECTUNDER A PROFESSIONAL LIABILITY POLICY

The case of IPSCO Steel (Alabama), Inc. v . Blaine Construction Corporation, 371 F .3d141 (3d Cir. 2004) demonstrates how a contractor with a design-build contract canprotect itself with professional liability insurance . In that case, a contractor was able toobtain professional insurance coverage for alleged liability arising from thecontractor's abandonment of a construction project.

See, e .g ., Wanzek Constr. Inc . v . Employers Ins . of Wausau, 679 N.W.2d 322, 330 (Minn.2004) ; Corner Constr . Co . v . U .S . Fid . & Guar. Co . , 638 N .W.2d 887, 895 (S .D . 2002) ; CU Lloyd's ofTexas v . Main Street Homes. Inc . , 79 S .W.3d 687, 695 (Tex. App. 2002) ; AE-Newark Assocs . v. CNAIns . Cos . , No. OOC-05-186, 2001 WL 1198930, at *34 (Del . Super . Ct. Oct . 2, 2001) ; Feies v . AlaskaIns . Co . , 984 P .2d 519, 523 (Alaska 1999) ; Vandenberg v . Centennial Ins . Co ., 982 P .2d 229, 244 (Cal .1999) ; Erie Ins . Exch . v . Colony Develop . Corp . , 736 N.E.2d 941, 949 (Ohio Ct. App. 1999); State FarmFire & Cas . Co . v . CTC Dev . Corp . , 720 So .2d 1072, 1075 (Fla . 1998) ; Iberia Parish Sch . Bd . v . Sandier& Son Constr . Co . , 721 So .2d 1021, 1023 (La . Ct . App . 1998) ; Sane v . State Farm Fire & Cas . Co . , 486S.E.2d 71, 76 (Ga . Ct . App . 1997) ; Mackellar Dev. of Nev . . Inc . v . N. Ins . Co . , 837 P .2d 858, 860 (Nev.1992) .

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In IPSCO, a contractor negotiated a contract to furnish all labor and materialsnecessary to design, fabricate and erect pre-engineered and custom designed buildings(the "Design-Build Contract") for a steel mill construction project in Alabama (the"Steel Mill Project") . The specifications provided by the owner for the Design-BuildContract only contained general arrangement drawings and identified certain specificrequirements that had to be met for the final design of the buildings such as applicablecodes, wind loads and crane loads . However, the owner requested a firm lump sumprice from the contractor .

Under those circumstances, industry standards required a design-build contactor todevelop a preliminary design concept and make preliminary engineering and designcalculations to confirm that the preliminary design concept was viable . In fact, adesign-build contractor has considerable latitude in designing a project to meet therequirements of the general arrangement drawings and specifications . As such, inorder to provide a lump sum price for a design-build contract, industry standardsrequired a design-build contactor to (1) use the preliminary design concept andpreliminary engineering to identify the quantities of material necessary to meet therequirements of the general arrangement drawings and specifications, and (2) use theidentified quantities of labor and material as the basis for an engineered price .

The contractor provided a lump sum price to the owner for the work (withoutqualification) and the owner accepted that lump sum price (without qualification) .However, the employee responsible for preparing the lump sum price had failed todevelop a preliminary design concept or perform preliminary engineering and designcalculations . Instead, the employee determined the lump sum price for the primarybuildings merely by using square foot pricing based on prior buildings the contractor

had constructed (none of which were comparable to the primary buildings on the SteelMill Project) .

After negotiating the Design-Build Contract, the contractor subcontracted the detaileddesign and engineering of the primary buildings to an engineer . Less than six monthslater, the contractor quickly discovered it had a problem when the quoted prices for thesteel for certain of the buildings based on the detailed design prepared by thesubcontractor engineer greatly exceeded the budget . The contractor made a short-livedattempt to claim changes from the owner, but quickly abandoned the project when itrealized the magnitude of the losses it was facing. The owner sued the contractor forthose losses and the contractor was facing a bet the company lawsuit (because thecontractor's assets were far less than the amount of the owner's claim) .

The owner had established an owner controlled insurance program for the constructionproject . The insurance for the project included professional liability insurance thatprovided coverage to any architectural or consulting engineering firms providingprofessional services (which was defined as engineering and construction managementservices) . The contractor had received an advice of insurance from the owner's

insurance broker indicating that the contractor was covered under the professionalpolicy. As a result, the contractor tendered the defense of the owner's claim to theprofessional insurer arguing that the claim was covered because it essentially allegedan omission in professional services, i .e . failure to perform preliminary design andengineering work .

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The insurance company refused to defend the contractor asserting several defenses, oneof which was that the contractor was not covered under the professional policy because

the insurer had not received proper notice of the contractor's involvement in the SteelMill Project . The contractor filed a lawsuit seeking coverage from the insurer underthe professional policy (and also making claims against other parties, including theowner, for allegedly failing to effect professional coverage for the contractor) . Thetrial court then consolidated the owner's claim against the contractor and thecontractor's coverage lawsuit .

The contractor and the owner eventually entered into a settlement agreement thatessentially provided for (1) the owner and the contractor to arbitrate the contractor'sliability for claims that were covered under the professional policy, (2) entry of astipulated judgment if a finding of liability was made against the contractor, and (3)pursuit of recovery of the judgment from the professional liability insurer in thecontractor's coverage lawsuit . However, shortly after the professional insurer learnedof that settlement, the professional insurer agreed to settle the dispute by making apayment of six million dollars in exchange for a release by the owner . As a result ofthat settlement, the contractor was able to use its professional insurance coverage tocover itself in the bet the company lawsuit alleging claims arising from abandonmentof the Steel Mill Project .

V. COVERAGE UNDER COMPREHENSIVE GENERAL LIABILITY ANDPROFESSIONAL LIABILITY POLICIES FOR DEFECTIVE WORK CLAIM S

This final "real-life" lawsuit involved a newly-constructed, pre-cast concrete parkinggarage that experienced premature failures and deterioration, and allegedly hadstructural deficiencies . The owner asserted claims for repair costs and other damagesin excess of $20 million. Fifteen parties were joined in the lawsuit as allegedly liablefor the owner's damages, including various contractors, subcontractors and suppliers,the construction manager, the design professionals, and the garage operator . The

claims implicated potential coverage under twenty different general and professionalliability policies . Ultimately, the claims were settled for $7 .5 million, the vast majorityof which was paid by the various insurance carriers .

io The Project And The Defect s

The project at issue was for the design and construction of a three-level, above groundparking garage structure for a public owner (the "Project" or the "Garage") . The firstlevel of the Garage is slab -on-grade, and the second and third levels were elevated andconstructed of pre-cast concrete . A waterproofing/traffic coating system, specified aselastomeric vehicular traffic coating ("EVTC"), was installed on the second and thirdlevels .

The project was implemented as a design -bid-build project . The owner engagedmultiple design firms and consultants (collectively, the "Design Professionals") tounde rtake the design of the Garage and to select and specify the topping system . Theowner bid and awarded ten separate prime contracts for the construction of the Garage .The two involved prime contracts were : (1) the contract for the civil, structural andarchitectural components, awarded to a prime building con tractor (the "BuildingContractor") ; and (2) the contract for the supply and installation of the EVTC system,awarded to a separate contractor (the "Topping Contractor") . For the construction

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phase, the owner engaged a construction manager to oversee and coordinate themultiple prime contractors .

The Building Contractor (1) self-performed the civil and slab-on-grade work, (2)subcontracted the pre-cast concrete supply and erection work to a pre-cast concretecontractor, and (3) subcontracted the supply and installation of caulking specified . foruse at the joints between pre-cast members to a specialty contractor . The pre-castsubcontractor, in turn, engaged four sub-subcontractors and sub-suppliers to providethe pre-cast structural design, and the Portland cement, reinforcing steel, and chemicaladditives used in manufacturing the pre-cast members .

The Topping Contractor hired two primary subcontractors : (1) a contractor to performthe specified "shot blasting" of the surface of the pre-cast members to ready them forapplication of the EVTC; and (2) a supplier to provide the EVTC system . The ToppingContractor self-performed the installation of the EVTC system .

Shortly after the owner had put the Garage to use, three categories of problems werediscovered. First, the EVTC system failed, experiencing wide-spread delamination,particularly on the third level (which was exposed to the elements and direct sunlight)and at the joints between pre-cast members . Second, the Garage experiencedsignificant leaks at the joints between pre-cast members, which, in turn, caused severedegradation and failures of the caulk joints, the pre-cast members, and the sheerconnectors between the members . Third, hairline cracks developed at the stem ends ofthe pre-cast members . The owner claimed that these cracks were a result of structuraldeficiencies .

The owner commenced suit against the Building Contractor and the ToppingContractor, seeking $9 million for remedying the topping failure, and the leaking andsubstrate degradation problems ("Topping/Substrate problems"), $6 million to repairthe alleged structural deficiencies, and other damages . Eventually, fifteen parties werejoined in the lawsuit as defendants or additional defendants, including : (1) all of thesubcontractors and sub-suppliers noted above ; (2) all of the Design Professionals ; (3)the owner's construction manager ; and (4) the operator of the Garage .

The parties collectively alleged various root causes and/or contributing factors for theTopping/Substrate problems, including the following :

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Improper specification of a traffic topping system that could not withstand theelements and exposure to sunlight ;

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Defective design of the detail for installation of the caulking and EVTC at thejoints between pre-cast members ;

• Defective and understrength pre-cast concrete, caused by (a) defective cementor additives, (b) defective reinforcing steel, (c) defective concrete mix design,and/or (d) poor workmanship ;

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Defective materials and/or workmanship for the caulking installation ;

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Defective EVTC system materials ;

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Defective installation of the sheer connectors between the pre-cast members ;

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Inadequate or defective "shot blasting" preparation;

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Poor workmanship in the EVTC system installation ;

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Field directives by the construction manager and/or the Design Professionals toaccept modified joint details that were defective ;

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Use of improper snow removal equipment that allegedly damaged the EVTC ;and

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Overloading of deck by the owner and/or the Garage operator, which causedfailure of the sheer connectors between the pre-cast members .

With regard to the alleged structural deficiencies in the pre-cast members, thefollowing causes were alleged :

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Defective structural design, which allegedly called for inadequate reinforcingsteel and/or pretensioning ;

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Defective manufacturing of the pre-cast members; and

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Defective pre-tensioning steel, which allegedly failed to maintain required pre-tensioning .

The Insurance Policies And Coverages Implicate d

The defendants and additional defendants in the lawsuit were insured under variousinsurance policies as follows : First, the owner provided so-called "Wrap-Up"insurance under an owner controlled insurance program ("OCIP"), including (1) a$20,000,000 comprehensive general liability ("CGL") policy, which named as insuredsthe Owner, its Design Professionals and construction manager, and all contractors onthe Project; and (2) a $30,000,000 professional liability policy, naming the DesignProfessionals and the construction manager . Additionally, each party had its owninsurance assets available . The Design Professionals had their own professionalliability policies . Further, the contractors, subcontractor, and suppliers had their ownCGL policies . Overall, there were twenty policies that potentially provided insurancecoverage for the claims .

Although vigorously contested by the insurance carriers, the various alternative claimsmade by the parties triggered potential coverage under all of the above policies . Infact, all of the insureds demanded that the carriers defend or provide them a defence,and most of the insurers agreed to do so, albeit with a reservation of rights as toindemnity . In summary, the principal arguments for coverage under the two types ofpolicies were as follows .

Coverage for the Design Professionals, the construction manager, and the structuralengineer for the pre-cast system was triggered under the professional liability policiesbecause, as noted above, each of these parties were subject to claims that their errorsand/or omissions caused or contributed to the damages to the Garage .

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The Design/Professionals were claimed to have provided defective designsand/or approved defective details during construction that allegedly caused orcontributed to the Topping/Substrate problems .

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The construction manager was claimed to have approved during constructiondefective details and/or inadequate "shot blasting" and/or failed in itsinspection duties, which failures were claimed contributors to theTopping/Substrate problems .

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The pre-cast structural engineer was claimed to have provided defectivestructural designs for the pre-cast members .

Coverage for the contractors and subcontractors was triggered under the various CGLpolicies . For the most part, such coverage was claimed b ased upon the subcontractorexceptions to the "your work" exclusions included in the policies, which exclusionswere each substantially similar to Exclusion L discussed above in connection with theKvaerner case . Although there is contrary authority in various American jurisdictions,as noted above, there is significant case law support for the proposition that damagecaused by defects in an insured's subcontractor's work is covered under a CGL policy .The alte rnative claims asserted triggered coverage under this theory under every CGLpolicy at issue, with the exception of those policies held by the lowest tiersubcontractors .

Final Disposition Of The Claims

After initial discovery and exchange of expert reports, the parties agreed to undertake aglobal mediation in an effort to resolve both the liability claims and the insurancecoverage disputes . After several mediation sessions, the parties agreed to a globalsettlement, pursuant to which the owner was paid $7 .5 million . The vast majority ofthe settlement amount was paid by the insurers . For example, the Building Contractor- who was one of the two original defendants the owner sued seeking $20 million indamages - paid only $30,000 toward the settlement, with substantial additional fundspaid on its behalf by multiple insurers. Additionally, the Building Contractor had all ofits defence costs paid by the carriers . Although some parties paid more out-of-pocketto settle the claims, the majority of the monies paid on behalf of the defendants camefrom the insurers .

Hence, while the ultimate causes and liabilities for the failures and defects in theGarage were never finally determined, the contractors, subcontractors, suppliers,construction manager and the Design Professionals were able to rely upon insuranceassets to eliminate or substantially mitigate the financial losses suffered as a result of adefective project .

VI. CONCLUSION

There are many different types of insurance policies providing cover to contractors andconstruction managers for unexpected events on a construction project . Contractorsand construction managers should carefully consider what policies they need to protectthemselves and then even more carefully consider how to access that insurance whenthere is a loss or claim on a construction project .

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